iShares Floating Rate Bond ETF (FLOT): This Floating Rate Fund Is Appropriate For 2023

Thesis

The iShares Floating Rate Bond ETF (BATS:FLOT) is an investment grade corporate bond fund. The vehicle invests only in floating rate bonds with a fairly short duration profile. The nature of the underlying collateral yields a very short duration for the fund, which clocks in at only 0.06 years now. As per its literature:

The iShares Floating Rate Bond ETF seeks to track the investment results of an index composed of U.S. dollar-denominated, investment-grade floating rate bonds with remaining maturities between one month and five years.

The fund is a true investment grade bond vehicle, with most of the holdings falling in the ‘A’ rating bucket. In many instances we see ‘investment grade’ funds which are overly concentrated in ‘BBB’ credits, hence the bottom of the rung in the investment grade world.

FLOT currently has a 5% 30-day SEC yield, and is set to continue to increase that dividend as SOFR/Libor increases:

We like FLOAT for 2023. The fund runs very limited credit risk via its holdings, has a short duration profile that has kept it afloat in 2022 and will keep increasing its dividend as the front end of the rates curve rises. Let us have a quick look on how FLOT benchmarks against some alternatives:

All funds are investment grade names, generally with a floating rate collateral (or very short duration one). Also please note that all vehicles are running credit risk (albeit small), and represent a different proposal than the short dated treasuries funds such as (GBIL) and (SHY).

We can see that FLOT is in the middle of the cohort when looking at 30-day SEC yields and has an extremely low market beta. From a standard deviation standpoint the fund clocks in 2.43 on a 3-year measurement period, meaning we should not expect this name to draw down more than 2.43% this year. Let us have a look on how it did in 2022:

When looking at the fund from a price perspective we can notice that the draw-down was indeed limited by a -2% threshold in 2022, with the total return profile looking even better.

FLOT is a solid choice for 2023 as we await the market move lower and ongoing recession outcome. The fund offers a high, fully covered, 5% 30-day SEC yield, which is going to increase as the front end of the curve keeps moving up. The vehicle runs a modest amount of credit risk and is concentrated in banking paper. We do not see the ongoing recession as a Banking / Financial Services one, and we do not expect any meaningful defaults in that sector. We view FLOT as a nice yield play with de-minimis downside.

Holdings

The fund contains only investment grade bonds:

We can see the vehicle being overweight ‘A’ credits, which compose over 53% of the holdings. ‘AAA’ securities come in second, followed by ‘AA’ and ‘BBB’ paper. This is a true investment grade bond fund. We sometimes see vehicles which call themselves ‘investment grade’ but really have a barbell AAA / BBB allocation, which in effect makes the vehicle more credit risky than what we see in FLOT.

From an industry standpoint the vehicle concentrates most of its holdings in banking risk:

Financial Services represents the highest concentration here, between the ‘Banking’ and ‘Insurance’ industries.

The maturity profile of the underlying assets is fairly well dispersed:

Given the floating rate nature of the underlying collateral, the vehicle has a very small overall duration footprint:

We can see the fund posting a 1.7 years weighted average maturity and extremely low duration.

Conclusion

FLOT is an investment grade corporate bond fund. The vehicle purchases only floating rate paper, giving it an extremely short duration profile (0.06 years effective duration). The fund is overweight ‘A’ credits, which make up over 50% of the fund. Given the rise in rates, the fund’s 30-day SEC yield is now over 5%, and is set to increase as the front end of the curve moves up. Please note that FLOT is a different vehicle than short dated treasuries funds such as GBIL and SHY, and in the article we compare it to the likes of (MINT) and (JAAA). Ultimately a retail investor should think of short dated corporate funds as vehicles which very low credit risk, that yield treasuries plus 1% to 1.5%. We like FLOT and what it offers: a very shallow draw-down profile (only -1.8% in 2022) and an increasing front-end yield with de-minimis credit risk. From a portfolio allocation strategy standpoint, 2023 is going to be a tricky year. In our opinion we have not seen the broader market bottom yet, and FLOT represents a good place to wait that out. At the end of the day, the worst that could happen to your portfolio with FLOT in it at the end of the year is being up +5%, which is not a very bad deal.